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Exam 2: Cost Behavior, operating Leverage, and Profitability Analysis

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Question 61

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Based on the income statements shown below,which division has the cost structure with the highest operating leverage? $\begin{array}{c}\begin{array}{l}\\\text {Revenue}\\ \text {Variable costs}\\\text { Contribution margin }\\\text {Fixed costs}\\ \text {Net income}\\\end{array} \begin{array}{lll}\text { Soft Drinks }\\\$50,000\\(10,000) \\40,000\\(30,000) \\\%10,000 \end{array}\begin{array}{c}\text { Bottled Water }\\\$ 50,000 \\ (5,000) \\ 45,000 \\ (40,000) \\ \$ 5,000\end{array}\begin{array}{lll}\text { Fruit Juices }\\\$50,000\\(30,000) \\20,000\\(10,000) \\\$10,000\end{array}\end{array}$

A) Bottled Water.
B) Fruit Juices.
C) Soft Drinks.
D) The three divisions have identical operating leverage.

E) B) and D)
F) C) and D)

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Question 62

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The following income statement was produced when volume of sales was at 400 units. $\begin{array}{lrr} \text { Sales Revenue } &\$2,000\\ \text { Variable Cost } &\underline{1,200}\\ \text { Contribution Margin} &\$800\\ \text { Fixed Cost} &\underline{300}\\ \text { Net Income } &\underline{\$500}\\\end{array}$ If volume reaches 500 units,net income will be:

A) $625
B) $1,800
C) $700
D) None of these

E) None of the above
F) A) and B)

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Question 63

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The higher the magnitude of a company's operating leverage,the more benefit the company will receive from a given percentage increase in revenue.

What is operating leverage,and how does a company achieve operating leverage?

Wham Company sells electronic squirrel repellants for $60.Variable costs are 60% of sales and total fixed costs are $40,000.What is the firm's magnitude of operating leverage if 2,000 units are sold?

Mark Company,Inc.sells electronics.The company generated sales of $45,000.Contribution margin is $20,000 and net income is $4,000.Based on this information,the magnitude of operating leverage is:

Which characteristic is true of the high-low method,the scattergraph method,and regression analysis?

In order to prepare a contribution format income statement,costs must be separated into:

If a profitable company has both fixed and variable costs,its operating leverage will always be greater than 1.

Wu Company incurred $40,000 of fixed cost and $50,000 of variable cost when 4,000 units of product were made and sold. If the company's volume doubles,the total cost per unit will:

Income statements for three companies are provided below: $\begin{array}{lccc}& \text { Company A } & \text { Company B } & \text { Company C } \\\text {Sales (20 units)}& \$ 1,000& \$ 1,000& \$ 1,000\\\text {Less variable costs}& 600 & 300 &- \\\text {Less fixed costs}& 200 & 500 & 800 \\ \text {Net income}&\$200 & 200 & \$200 \\\end{array}$ Required: (a)Prepare new income statements for the firms assuming each sells one additional unit (i.e.each firm sells 21 units) (b)Briefly describe the effect of cost structure on profitability.

If revenues are expected to decline,management should attempt to convert its variable costs into fixed costs.

Select the incorrect statement regarding the contribution margin income statement.

ETutor is an online tutoring service provider that is particularly popular with college students.The company is interested in estimating the fixed and variable components of its tutoring services costs.The manager believes that these costs are driven by the number of hours of tutoring services provided.The following information was gathered for the last six months of business: $\begin{array} { l c r } \text { Month } & \text { Number of Hours } & \text { Tutoring costs } \\\text { January } & 25,000 & \$ 308,000 \\\text { February } & 41,000 & 420,000 \\\text { March } & 29,000 & 352,000 \\\text { April } & 31,000 & 373,000 \\\text { May } & 34,000 & 378,000 \\\text { June } & 18,000 & 252,000\end{array}$ Required: 1)Compute the average tutoring cost per hour for the six-month period.(Round the average tutoring cost per hour to two decimal points.) 2)Use the high-low method to estimate the total fixed cost and the variable cost per hour.(Round the variable cost per hour to two decimal points.) 3)Name one advantage and one disadvantage of the high-low method. 4)Describe the scattergraph method that can be used to analyze mixed costs.

If a company had a mixed cost structure,every dollar of revenue after covering the fixed costs would be pure profit.

A cost that is part selling cost and part manufacturing cost is referred to as a mixed cost.

A low magnitude of operating leverage is best for most companies.

Rock Creek Bottling Company pays its production manager a salary of $6,000 per month.Salespersons are paid strictly on commission,at $1.50 for each case of product sold. For Rock Creek Bottling Company,the cost of the salespersons' commissions is an example of:

One reason for computing the average cost for a product rather than the actual cost is that average cost is easier to compute.

If a company shifts its cost structure by decreasing fixed costs and increasing variable costs,it will lower both the level of risk and its potential for profits.